Draghi says inflation 'way below' target, risks becoming entrenched

European Central Bank (ECB) President Mario Draghi addresses a news conference at the European parliament in Brussels December 17, 2012. REUTERS/Laurent Dubrule

BRUSSELS (Reuters) - Inflation in the euro zone is “way below” the European Central Bank’s goal and the longer it stays at such low levels the harder it will be to get it back up to the target, ECB President Mario Draghi said on Monday.

In prepared remarks for delivery to European lawmakers, Draghi said the ECB’s commitment to delivering price stability was reflected in medium- and longer-term inflation expectations “remaining firmly anchored”.

However, in a follow-up question and answer session, he said inflation risked becoming entrenched at low levels.

“Right now we have a level of inflation which is way below 2 percent,” Draghi told the European Parliament’s Committee on Economic and Monetary Affairs in the Q&A session.

“We know that the longer it stays at the current level, the higher will be the risk that it will not go back to 2 percent in any reasonable time - in other words, the longer will be the risk that inflation expectations could actually be disanchored, and we don’t want that.”

Euro zone inflation is running at 0.8 percent - far below the ECB’s target of just below 2 percent. That has raised speculation that the bank could take policy action to ward off the threat of deflation.

The central bank holds a policy meeting on Thursday although a Reuters poll forecast it would not cut rates at the meeting.

Draghi has set out two scenarios that could trigger fresh action: a deterioration in the medium-term inflation outlook and an “unwarranted” tightening of short-term money markets.

Of 78 economists polled by Reuters last week, 26 have pencilled in a cut in the main refinancing rate on Thursday.

In his prepared remarks, Draghi said the euro area was “clearly moving in the right direction - the glass is at least half-full.”

But he again touched on the issue of low inflation when addressing the euro’s exchange rate.

“The exchange rate is not our policy target,” he said. “However, the exchange rate is important first and foremost for price stability, because when we say price stability, we mean price stability in both directions.”

“So whenever we are distant from 2 percent (inflation) - or close to but below 2 percent - we put ourselves (in a situation of having) a problem of reaching price stability,” he added.

Turning to tensions in Ukraine, Draghi said the immediate economic impact of these on the euro zone was likely to be “relatively limited”.

“However, the geopolitical dimensions of this situation are indeed completely different from what we’ve seen in the last bouts of spillovers from emerging markets or from monetary policy decisions taken by other countries,” he added.